Lesson 8 of 8 · 12 min
Common-size income statements and margin analysis
Expressing every income statement line as a percentage of revenue removes the effect of size, so margins can be compared over time and across companies, and differences point to strategy and cost structure.
In short
- Vertical common-size income statement: every line ÷ revenue. Supports time-series and cross-sectional comparison.
- Key margins: gross (gross profit ÷ revenue), operating (operating profit ÷ revenue), pretax (profit before tax ÷ revenue), net (net income ÷ revenue).
- Taxes are better compared with pretax income (effective tax rate) than with revenue.
- High gross margins often reflect differentiated products (brand, quality, technology, patents), usually supported by spending on R&D and advertising.
- Margins show where profitability changed; the analyst then investigates why.
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